House of Representatives

Tax Laws Amendment (2004 Measures No. 2) Bill 2004

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 9 - Taxation of overseas superannuation payments

Outline of chapter

9.1 Schedule 9 to this bill amends the Income Tax Assessment Act 1936 (ITAA 1936) to alter the taxation treatment that applies when payments are made from overseas superannuation funds. The amendments give effect to the Government's response to the report by the Senate Select Committee on Superannuation called Taxation of Transfers from Overseas Superannuation Funds.

9.2 The key change will enable a taxpayer who is having their overseas superannuation paid directly to an Australian complying superannuation fund to elect to have part of the payment treated as a taxable contribution in the Australian fund. By doing so the fund, rather than the individual, will include the relevant amount in assessable income and any tax will be paid at the concessional superannuation fund rate (15%) rather than at the individual's marginal rate.

9.3 A number of related amendments are also made to improve the operation and clarity of the provisions dealing with payments of overseas superannuation.

Context of amendments

Background

9.4 It is an accepted principle that Australian residents should be taxed on their worldwide earnings. Consistent with this principle, where a superannuation benefit is paid from an overseas fund a tax liability may arise in respect of an amount reflective of the earnings on the overseas superannuation while the individual was an Australian resident.

9.5 If the payment is made within six months of the individual becoming an Australian resident the payment is tax free (by virtue of being considered an exempt non-resident foreign termination payment).

9.6 If the payment is made outside the six month period then the assessable amount is determined in accordance with a formula specified in section 27CAA of the ITAA 1936. Under this formula the assessable amount generally reflects the investment earnings on the overseas superannuation benefit between the time the individual became an Australian resident and the time the payment took place.

9.7 The assessable amount has until now been included in the assessable income of the individual taxpayer in the year the payment took place and has been taxed at the taxpayer's marginal rate. Since any amount paid directly to an Australian fund is subject to the normal preservation requirements of Australian law (i.e. it will not normally be accessible until retirement after age 55) these amounts have not been available to the taxpayer to pay the related taxation liability.

Summary of new law

9.8 Schedule 9 to this bill will amend the ITAA 1936.

9.9 The key change will be to allow an individual who is having overseas superannuation paid directly to an Australian complying superannuation fund to elect to have part of the payment treated as a taxable contribution in the Australian fund. By doing so the fund, rather than the individual, will pay relevant tax on the payment and tax will be paid at the concessional superannuation fund rate rather than at the individual's marginal rate.

9.10 This will overcome the difficulties experienced by individuals faced with a tax liability without recourse to funds to pay the liability due to the benefits being required to be preserved in the Australian fund until retirement.

9.11 The foreign investment fund (FIF) rules will also be amended to prevent double taxation where an amount that has been taxed under the FIF rules is also treated as a taxable contribution in an Australian fund (when the amount is paid to the Australian fund).

9.12 A number of related amendments will improve the operation and clarity of the law dealing with the taxation of overseas superannuation payments by:

·
clarifying that amounts paid into an Australian fund will be treated as undeducted contributions in the fund, unless they are amounts treated as taxable contributions;
·
ensuring that tax is not payable at the time a payment is made from one overseas fund to another, but only at the time the benefit is paid to an Australian fund or otherwise paid to or for the individual;
·
ensuring that certain capital amounts previously transferred into the paying fund do not form part of the taxable amount when the overseas benefit is paid;
·
providing a method to exclude from the assessable amount any amounts representative of earnings during periods of non-residency; and
·
inserting specific provisions to provide clarity over the treatment of partial payments.

9.13 The amendments do not affect the six month grace period.

9.14 If the overseas superannuation is not paid directly to an Australian complying superannuation fund (e.g. if the overseas superannuation is paid direct to the taxpayer) then the assessable amount will continue to be included in the taxpayer's assessable income and taxed at their marginal rate.

9.15 The payments are not subject to the superannuation contributions surcharge as they do not meet the definition of 'surchargeable amounts' in the existing surcharge legislation (refer to section 8 of the Superannuation Contributions Tax (Assessment and Collection) Act 1997).

Comparison of key features of new law and current law

New Law Current Law
Where a payment is made from an eligible non-resident non-complying superannuation fund direct to a complying superannuation fund in Australia, the individual will be able to elect to have part of the payment treated as a taxable contribution in the Australian fund.
By doing so the fund, rather than the individual, will pay the tax on the relevant amount and will do so at the concessional superannuation fund rate.
If the payment is made within six months of the individual becoming an Australian resident the payment remains tax free.
The FIF rules will prevent double taxation where an amount that has been taxed under the FIF rules is treated as a taxable contribution in an Australian fund (when the amount is paid to an Australian fund).
Amounts paid into an Australian fund will be treated as undeducted contributions in the fund, unless they are treated as taxable contributions.
Tax will not be payable at the time a payment is made from one overseas fund to another, but only at the time the benefit is subsequently paid to an Australian fund or otherwise paid to or for the individual.
Certain capital amounts previously transferred into the paying fund will not form part of the taxable amount when overseas benefits are paid.
Amounts representative of earnings during periods of non-residency will not be included in the taxable amount.
Specific provisions will provide clarity over the treatment of partial payments.
Where a payment is made from an eligible non-resident non-complying superannuation fund, then an amount (the assessable amount) reflecting earnings on the overseas superannuation fund since the individual became a resident of Australia is included in the individual's assessable income and is taxed at marginal tax rates.
The individual has no access to money in the Australian fund (because of preservation requirements) to pay the tax liability.
If the payment is made within six months of the individual becoming an Australian resident the payment is tax free.

Detailed explanation of new law

Amendments to the Income Tax Assessment Act 1936

Replacement of section 27CAA with new section 27CAA

9.16 The existing section 27CAA is repealed and replaced with a new section 27CAA. The structure and provisions are unchanged in a number of respects. Where the new provisions are different they are explained in the remainder of this chapter. [Schedule 9, item 2]

Election to treat part of a payment to a complying superannuation fund as a taxable contribution

9.17 If an overseas superannuation benefit is paid for an individual from an eligible non-resident non-complying superannuation fund direct to a complying superannuation fund, and the individual no longer has an interest in the first fund after the payment (i.e. the payment represents payment of the individual's entire benefit in the paying fund), the individual may elect for part of that payment to be treated as a taxable contribution by the complying superannuation fund. [Schedule 9, item 2, subsection 27CAA(3)]

9.18 If the individual makes such an election then the amount that would otherwise be included in their assessable income and taxed at their marginal tax rate in accordance with subsections 27CAA(1) and (2) will be reduced by the amount covered by the election. The amount covered by the election will be treated as a taxable contribution by the fund and taxed at the fund's concessional tax rate (15%). [Schedule 9, item 2, subsection 27CAA(4); item 4, paragraph 274(10)(d)]

9.19 The election must be in writing and comply with requirements (if any) specified in regulations. The Australian Taxation Office is intending to develop a standard document which individuals can use when making the election to the fund and which will provide any necessary information that the superannuation fund requires to process the election. [Schedule 9, item 2, subsection 27CAA(5)]

Example 9.1 A taxpayer has $100,000 in an overseas fund which is paid direct to an Australian complying superannuation fund. Assume that the amount that would be assessable under the formula in subsection 27CAA(2) is $20,000. The taxpayer may elect under subsection 27CAA(3) to have $20,000 treated as a taxable contribution to the Australian fund. The Australian fund will tax the amount accordingly under paragraph 274(10)(d) and the amount to be included in the taxpayer's assessable income will be reduced to $0 under subsection 27CAA(4).

Amendment to foreign investment fund rules to avoid double taxation

9.20 Where an Australian resident has an interest in an overseas superannuation fund, the person may be assessed for tax in respect of the fund's earnings under the FIF rules. If the overseas superannuation is subsequently paid to an Australian fund, the amount of income that would be included in assessable income under section 27CAA, as a result of the payment, is exempt to the extent that it relates to amounts that have already been taxed under the FIF rules (section 23AK).

9.21 Under the proposed changes, an individual may elect for an amount that would otherwise have been included in assessable income under section 27CAA (when overseas superannuation is paid direct to an Australian fund), to be a taxable contribution in the Australian superannuation fund. To avoid double taxation, the individual will be entitled to a deduction, to offset assessable income to the lesser of the amount covered by the taxpayer's election (i.e. the taxable contribution amount) and the FIF attribution surplus immediately before the transfer happens. [Schedule 9, item 5, section 533B]

9.22 When a taxable contribution amount is used to offset assessable income, a FIF attribution debit arises for that amount in relation to the FIF. The FIF attribution debit arises immediately after the taxpayer becomes entitled to the deduction. [Schedule 9, item 6, section 607AA]

Treatment of payments in terms of eligible termination payment components

9.23 The definition of 'undeducted contributions' in subsection 27A(1) is amended to provide that the portion of any payment from an eligible non-resident non-complying superannuation fund into an Australian fund that is treated as a taxable contribution will not be considered 'undeducted contributions' in the superannuation fund. Rather these amounts would, for the purposes of any later application of the eligible termination payment (ETP) provisions, fall by default into the post-June 1983 component. The remaining portion of any such payment (i.e. that part not considered taxable contributions) would be considered 'undeducted contributions'. [Schedule 9, item 1]

Treatment of payments from one overseas fund to another

9.24 Where a payment is made from one eligible non-resident non-complying superannuation fund to another eligible non-resident non-complying superannuation fund this will no longer trigger a taxation liability at that time. [Schedule 9, item 2, paragraph 27CAA(1)(c)]

9.25 Instead the amount of that payment that would have otherwise been assessable at that time will now become assessable (by virtue of being considered a 'previously exempt amount') when payment is later made from the other eligible non-resident non-complying superannuation fund, or another subsequent eligible non-resident non-complying superannuation fund, to an Australian complying superannuation fund, or otherwise to or for the individual. This is achieved by the inclusion of 'previously exempt amounts' in the formula that determines the assessable amount for that subsequent payment. [Schedule 9, item 2, subsection 27CAA(2)]

9.26 Broadly a 'previously exempt amount' is an amount which would have been previously assessable under section 27CAA but for paragraph 27CAA(1)(c) which excludes payments from one eligible non-resident non-complying superannuation fund to another from being assessable. [Schedule 9, item 2, paragraph 27CAA(1)(c), section 27CAB]

9.27 A 'previously exempt amount' in respect of a relevant payment is defined as an amount:

·
to which the payment day entitlement, or part of it, is attributable (i.e. at least part of the payment day entitlement has arisen as a result of a previously exempt amount being paid into the paying fund); and
·
which would have been previously assessable under section 27CAA but for paragraph 27CAA(1)(c) (i.e. but for the payment having been made from one eligible non-resident non-complying superannuation fund to another eligible non-resident non-complying superannuation fund).

[Schedule 9, item 2, section 27CAB]

Example 9.2 Overseas Fund 1 pays $100 to Overseas Fund 2 (payment 1).Overseas Fund 2 pays $200 to Overseas Fund 3 (payment 2).Overseas Fund 3 pays $250 to, or in relation to, an Australian individual (payment 3).Assume the assessable amount but for paragraph 27CAA(1)(c) would have been $20 on payment 1 and $100 on payment 2 and that the assessable amount (excluding previously exempt amounts) on payment 3 would be $50.Then the assessable amount on payment 3 will be $50 plus all 'previously exempt amounts', which in this case would be

$20 + $100.

The total assessable amount under section 27CAA would be

$50 + $20 + $100 = $170.

Amending the definition of 'additional contributions' to ensure that certain capital amounts paid into a fund are not subsequently considered taxable under section 27CAA.

9.28 The broad intent of section 27CAA is to ensure that earnings of an Australian resident in an overseas fund are subject to tax. This is in part achieved by the formula in section 27CAA excluding contributions from being included in the amount that is assessable. However, payments into an eligible non-resident non-complying superannuation fund are not similarly excluded from that calculation and will thus be assessable when paid out unless specifically excluded. It is not appropriate for such payments to be assessable.

9.29 Accordingly, the definition of 'additional contributions' has been amended so that amounts paid from an eligible non-resident non-complying superannuation fund into the eligible non-resident non-complying superannuation fund that is the paying fund will be considered 'additional contributions' and thus will not be assessable when a payment is made from that fund (other than to the extent there are any associated 'previously exempt amounts' - see paragraph 9.25). [Schedule 9, item 2, subsection 27CAA(2), definition of 'additional contributions']

Ensuring only amounts attributable to periods of residency are included in the assessable amount

9.30 In certain circumstances it is possible that an individual may become an Australian resident, and then cease to be a resident for many years, before again becoming a resident and then arranging for their benefits to be paid into Australia. In this circumstance, currently the formula in section 27CAA effectively includes the earnings since the first day of residency in the assessable amount. This is not appropriate as the policy intent is only to tax earnings while the individual was an Australian resident.

9.31 To address this anomaly the amount that would otherwise be assessable under section 27CAA will be reduced so that the assessable amount only reflects periods of residency since the individual first became resident. This is achieved by multiplying the amount that would otherwise be the assessable amount by a factor representing 'resident days' over 'total days'. [Schedule 9, item 2, subsection 27CAA(2)]

9.32 Resident days is the total number of days on which the taxpayer is a resident of Australia in the period from and including the relevant day for the relevant payment, up to and including the day on which the payment was made. Total days is the total number of days in the period from and including the relevant day for the relevant payment, up to and including the day on which the payment was made. [Schedule 9, item 2, subsection 27CAA(2)]

Determining the treatment of partial payments

9.33 In determining the assessable amount under section 27CAA, the formula in subsection 27CAA(2) provides that the assessable amount is determined by taking the 'payment day entitlement' and, among other things, subtracting 'accumulated entitlement' and 'additional contributions'. To determine the treatment of partial payments, amendments have been made to these definitions.

9.34 The new definition of 'accumulated entitlement' ensures that if there has been a previous payment then in calculating the assessable amount for the second payment the accumulated entitlement is effectively reset, that is, it is the amount properly payable to the taxpayer out of the paying fund immediately after the most recent payment. [Schedule 9, item 2, subsection 27CAA(2), definition of 'accumulated entitlement']

9.35 Similarly, the new definition of 'additional contributions' ensures that if there has been a previous payment then in calculating the assessable amount for the second payment it is only additional contributions since the previous payment that are taken into account. [Schedule 9, item 2, subsection 27CAA(2), definition of 'additional contributions']

Example 9.3 Assume the vested benefit in an overseas fund is $110,000 (the 'payment day entitlement') on day of first payment and that the 'accumulated entitlement' for the purpose of this payment was $90,000. Also assume that 'additional contributions' and 'previously exempt amounts' both equal $0, and that 'resident days' divided by 'total days' equals one.Assume the first payment is for $100,000. The assessable amount for the first payment will be $110,000 - $90,000 = $20,000.The amount remaining after the first payment would be $10,000. Assume by the time of the second payment the vested benefit remaining is $15,000 and there were $2,000 additional contributions since the previous payment, and the full $15,000 is paid. The assessable amount for the second payment will be,

$15,000 - $10,000 + $2,000 = $3,000.

Application provisions

9.36 The amendments made by this Schedule apply to payments made on or after 1 July 2004. [Schedule 9, item 7]

Regulation impact statement

Background

9.37 The current tax treatment of overseas transfers of superannuation into Australia is governed by section 27CAA of the ITAA 1936. Broadly, section 27CAA provides that lump-sum payments from foreign superannuation funds are subject to tax on any investment earnings that have accrued since the individual became a tax resident of Australia. Any tax liability under section 27CAA is included in the assessable income of the taxpayer in the year the transfer took place and is taxed at the taxpayer's marginal rate.

9.38 An exception to section 27CAA (the '6 month rule') ensures that lump-sum transfers within six months of an individual becoming an Australian resident taxpayer are tax free. The grace period is designed to give individuals sufficient time to transfer their superannuation entitlements to Australia while minimising the scope for these individuals to avoid paying Australian tax.

9.39 There is no legal requirement in Australia for the monies to be paid to an Australian regulated fund. However, once monies have been transferred into an Australian regulated fund they are preserved and generally cannot be accessed. The individual must pay any resulting tax liability from other sources.

Policy objective

9.40 The objectives are:

·
to address the problem of the tax payable when overseas superannuation is transferred to an Australian superannuation fund being payable by the individual with no recourse to the superannuation benefit to pay that liability; and
·
to encourage the timely transfer of superannuation benefits into Australia and enhance the fairness and efficiency of the superannuation system in relation to such transfers.

Implementation options

Four options were considered

Option 1

9.41 Leave the calculation of the tax payable unchanged but enable the individual to access their superannuation lump sum in order to pay their tax liability.

9.42 This option would involve amending legislation to enable the individual to access so much of their superannuation as necessary to pay their tax liability under section 27CAA. This would involve amendments to the Superannuation Industry Supervision Act 1993.

Option 2

9.43 Leave the calculation of tax payable unchanged, but make the tax liability payable by the superannuation fund.

9.44 This option would involve amending legislation to enable the superannuation fund to directly pay the individual's tax liability arising under section 27CAA.

Option 3

9.45 Allow the taxable amount of the transfer to be treated as a taxable contribution in the superannuation fund.

9.46 This option would involve amending legislation to enable the individual (via an election process) to effectively transfer the taxation liability to the Australian superannuation fund, with the taxable amount then taxed in the fund at the concessional superannuation fund rate.

Option 4

9.47 Tax the taxable amount for the transfer at a flat rate of 15% (rather than at the individual's marginal rate), and allow the individual access to the superannuation benefit to pay the tax.

9.48 This option would involve amending legislation to change the way tax is calculated on the overseas transfer and enable the individual to access so much of their superannuation as is necessary to meet that liability.

Assessment of impacts

Option 1

9.49 Leave the calculation of the tax payable unchanged but enable the individual to access their superannuation lump sum in order to pay their tax liability.

9.50 This option would involve amending legislation to enable the individual to access so much of their superannuation as necessary to pay their tax liability under section 27CAA. This would involve amendments to the Superannuation Industry Supervision Act 1993.

Impact group identification

9.51 This option would affect individuals transferring their benefits, the funds that benefits are being transferred to, and the Australian Taxation Office (ATO).

9.52 The number of individuals who would be affected by the measure is not clear, however, in short it is comprised of all individuals who have or will migrate to Australia and have superannuation overseas which they wish to transfer to an Australian fund. To date it would appear that the main source of transferred funds has been the United Kingdom.

9.53 As at September 2003 there were 277,690 superannuation funds in Australia. However 275,523 of these are small (less than five member funds), the great majority of which would not receive overseas transfers.

Benefits

9.54 Individuals will benefit from not having to finance their tax liability from sources other than superannuation.

Costs

9.55 Individual costs would remain largely unchanged from the current arrangements, however in some instances they could fall as a result of not having to borrow money in order to finance their tax liability from non-superannuation sources. Individuals would have to provide the superannuation fund with information (such as potentially their marginal tax rate) to enable the fund to determine the appropriate amount to release.

9.56 Superannuation funds will incur increased costs from managing applications for early release of superannuation for this purpose. This will involve seeking information from the individual in order to determine the appropriate amount to release to fund the tax liability. In addition, the fund may require information from the ATO regarding the size of the tax liability under section 27CAA. Changes to processes and computer systems could be required.

9.57 Additional costs for Government would arise if the ATO needed to identify and report to the fund the individual's tax liability under section 27CAA.

Option 2

9.58 Leave the calculation of tax payable unchanged, but make the tax liability payable by the superannuation fund.

9.59 This option would involve amending legislation to enable the superannuation fund to directly pay the individual's tax liability arising under section 27CAA.

Impact group identification

9.60 As for option 1.

Benefits

9.61 Individuals will benefit from effectively being able to finance their tax liability from their superannuation.

Costs

9.62 Superannuation funds will incur costs of calculating the tax liability and making the tax payment. Government would incur costs from the need to ensure the tax liability has been appropriately paid by the fund.

9.63 Superannuation funds will face increased costs from having to obtain information to calculate the individual's tax liability under section 27CAA, such as potentially the individual's marginal tax rate and other information relating to the transferred amount. There will also be processing and system costs incurred by funds to enable calculation and payment of the tax due to the ATO. Individuals will incur costs in providing information to their fund to enable the taxable amount to be calculated.

9.64 Government will face some administration costs in establishing and maintaining a system for the payment of tax by funds to the ATO in relation to overseas superannuation transfers, which has been paid by the individual until now.

Option 3

9.65 Allow the taxable amount of the transfer to be treated as a taxable contribution in the superannuation fund.

9.66 This option would involve the individual being able (via an election process) to effectively transfer the taxation liability to the Australian superannuation fund, with the taxable amount then taxed in the fund at the concessional superannuation fund rate.

Impact group identification

9.67 As for option 1.

Benefits

9.68 Individuals will benefit from not having to finance their tax liability from sources other than superannuation as well as from a reduced tax rate.

Costs

9.69 The Australian fund will have to ensure the transfer is appropriately taxed. This may involve some additional administration costs for the funds. However, as the election process will provide a mechanism by which the amount to be treated as a taxable contribution is identified, and as the taxable amount of the transfer is taxed in the same way as other taxable contributions to the fund, the impacts on fund processes are expected to be minimal.

9.70 Costs on Government may involve development of standard forms which individuals and funds can use in the transfer process. As tax will be payable by the fund in the same manner as the fund currently pays tax in respect of other taxable contributions there will be no additional costs for Government in the tax collection process.

Option 4

9.71 Tax the taxable amount for the transfer at a flat rate of 15% (rather than at the individual's marginal rate), and allow the individual access to the superannuation benefit to pay the tax.

9.72 This option would involve amending legislation to change the way tax is calculated on the overseas transfer and enabling the individual to access so much of their superannuation as is necessary to meet that liability.

Impact group identification

9.73 As for option 1.

Benefits

9.74 Individuals will benefit from being able to finance their tax liability from their superannuation.

Costs

9.75 Superannuation funds will incur increased costs from managing applications for early release of superannuation for this purpose. This will involve seeking information from the individual in order to determine the appropriate amount to release to fund the tax liability. In addition, the fund may require information from the ATO regarding the size of the tax liability under section 27CAA. Changes to processes and perhaps computer systems may be required.

9.76 The costs would thus be similar to those in option 1 but reduced by comparison because there would be no need to calculate the individual's marginal tax rate.

9.77 Individuals would face costs in supplying the fund with the necessary information for the fund to calculate the taxable amount (as with option 1).

9.78 Additional costs for Government would arise if the ATO needed to identify and report to the fund the individual's tax liability under section 27CAA.

Consultation

9.79 Consultations have been undertaken with key superannuation industry groups and other organisations who had previously made representations on the issue to the Senate Select Committee on Superannuation. Industry were supportive of an approach which allowed the individual to effectively transfer the taxation liability to the fund without imposing significant administrative costs.

Conclusion and recommended option

9.80 Option 3 is the recommended option. While there would be some administration costs for funds they would be minimised in comparison to other options and are justified given the benefits of the overall simplicity and equity of this approach.

9.81 Option 1 would impose more significant costs on funds, the ATO or both in ascertaining the exact amount able to be released by the fund.

9.82 Option 2 would also impose more significant compliance costs on funds through having to determine the amount that is taxable and developing new processes for paying the appropriate tax.

9.83 Option 4 would involve similar costs to option 1 for funds in determining how much is eligible for release to pay the liability.


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